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Penny Stock Strategy

In the last section we figured out how to find the penny stocks that are worth buying. What most people fail to realize is that buying a relatively good price is fairly easy... Selling on the other hand can be much harder. Probably all traders have found themselves watching a potential profit evaporate before their eyes and turn to a loss. All stock trading requires a strategy to minimize the risk of this happening. Penny stocks are certainly no exception to that rule.

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Where do I start when selecting a Trading Strategy?

-To learn about common stock trading strategies, please check out our new Penny Stock Investing Strategy Center. Here you can find out what each technique entails, its application to penny stocks, its pros and cons, and resources to learn more. Take some time to browse through each page to find the strategy that fits you!

What price should I pay?

-If you have done your homework and found a truly great stock as described in the last section, the price you found it at may be just fine. If the stock is popular already, however, the price may already be moving rapidly.

-First of all, DO NOT chase a stock. 'Chasing' refers to raising your buying price rapidly in a desperate effort to get the shares. Most of the time this is a very bad idea. When a stock starts running your emotions will try to take over, a tendency that must be overcome. Other chasers will eventually have their orders filled and buying pressure will drop, leaving the price to follow suit. If, by chance, you miss a big run, try not to worry about it. Remember that stocks virtually never go straight up, and by not chasing you are greatly reducing your risk of a loss. If you absolutely have to get in, and you are confident the run has more steam, try not to chase much more than 5%. Set your entry price and stick to it. Let the price come to you.

-Instead of chasing a stock, you should be buying it when it's down. The saying for success is: "Buy into weakness, Sell into strength". This is, of course, if you truly believe the stock to be a winner. A good stock will almost always look the gloomiest right before it rebounds. Smart money is adding on the dips, selling near the peaks. Dumb money is chasing up the peak, and selling into the dip. Experienced traders thrive on dumb money, they are essentially collecting it for themselves...

Should I buy all of my shares at once?

-If you have a limited amount of funds, you may not have a choice. With only $500, for example, splitting your acquisition into two buys increases your commissions to an impractical level. With $1000, however, a couple of buys may be a smart move. Doing this is a way of decreasing risk. If the price drops after your first buy, you have only risked half of your money, decreasing risk. If things look bad, sell your shares and take a small loss. If you are still confident in the stock, you now have the opportunity to buy more shares at a lower price. This is called 'averaging down'. You are reducing the average cost per share on your investment.

If the price returns to the level of your first buy, you are already in the green. If you had thrown all of your money in at once, you would only be even. A smart investor always leaves money aside for 'buying power', or "dry powder" as some call it. Averaging down can pull you out of some holes, but don't get too carried away. If things are looking bad, do not throw more money down the toilet, look for something else to trade and move on.

When should I sell my stock?

-Selling is a little more complicated. Now that you own the shares, your money is inherently at risk. Therefore, the less time you own them, the less risk. This is a simple concept, but to make money the price must go high enough to recover your trading commissions, and continue to rise to produce a profit. This is why we recommend having at least $500 to put into a stock. To recover your buy and sell commissions, the share price needs to rise at least 4% - assuming a commission of $10 per trade - a fairly easy gain to realize on a penny stock. On the flip side, consider only putting in $200. To recover the $20 in commissions the share price has to rise 10%. While this is definitely possible, it is less likely to happen quickly. As a result your risk factor is increased.

To continually make money trading penny stocks, TAKE PROFITS. If the price has risen 25% since you purchased, it is probably wise to consider selling. On a $500 position, 25% leaves you with over $100 in profit (including commission) and a rush of serotonin in your brain; leaving you feeling like you just won a nice poker hand. Not bad for a few clicks of your mouse right? Letting the stock run higher is a tempting option, but it is also a risky option. If the money is there for taking, grab it while you can! Otherwise you are risking your profit, and quite potentially your original investment. Trust us when we say that watching your money disappear is not the most uplifting experience.

NOTE: Not all penny stocks move as fast as others. It depends on the stock's share structure, how much money flow there is, how much dilution there may be, etc etc. Also, playing bigger penny stocks with more shares outstanding can be done with much larger positions, going for much smaller percentage gains.

Sometimes you might be in a stock that is running strong with relentless buying. This might be your chance to realize a much greater profit. If you are fortunate enough to experience this, congratulations. You have found a super hot stock before the herd! This is not an easy feat, and the excitement and profits are your reward. Even so, a smart trader should start looking to lighten his or her position around a 50% gain in this situation. If you hold out and find yourself on a 100% gain, selling half of your shares to secure the original capital is a good option if you want to stay in the play...

However, think of that risk meter climbing ever higher... You may miss out on potential profits by selling early, but remember that any profit is a good profit. Take it and move on to the next profit. Stocks that run like this will almost always go back down. Do NOT let your money vaporize before you because of your own greed. Also know that selling your shares on the upside is a piece of cake, but when a stock is heading down quickly it can be very difficult. Expect to only get the going bid or even less if everyone else is trying to sell with you. Sometimes it is worth while to place your limit order below the bid. This can often get a quicker fill at the bid, or if the bid drops, you don't have to go and drop your sell price; as this is a time consuming process in the heat of the moment.

Should I sell all my shares at once?

-Quite often with penny stocks this is the easiest, and safest method to go with, particularly with fast moving stocks. Instead of keeping money in a volatile stock, you liquidate the asset and are left with cash. Cash is not going to disappear! You can then re-evaluate the situation from the other side of the fence and decide whether you want to try again with the same stock at a lower re-entry price, or move on to a whole new ball game.

In some cases, however, a partial sell can be a good strategy. If you find yourself in the position to recover your original investment by selling a portion of your shares, you could then keep the left over shares and see what happens. People call this riding "free shares". They get their original money back, and whatever they can get with what's left over is icing on the cake. If you truly believe, through some decent analysis, that the stock has potential to continue growing, riding freebies might be a great idea. If you have no idea what you own, or are taking the words of some people on a message board, however, sell it all and move on.

In the case of a longer term investment, and/or a large position in a stock, partial selling can be an almost necessary method. Referred to often as "scaling out", investors will sell chunks of their stock at different price levels or times. If the price action is slow and predictable, then slowly selling while the price creeps up can be much easier than trying to dump your shares all at once. In the case of having a lot of shares - in relation to the trading volume that is occurring - trying to sell all of them can be difficult, and could result in stalling the stock out, or even starting a decline (potentially before all of your shares are sold). For this reason selling a couple or more batches of shares can be a wise decision. This is another reason we only recommend buying about $500 worth of stock as a beginner. This amount should be easy to buy and sell in all but the most thinly traded penny stocks, stocks you stay away from in the first place...

Can charts help me?

-Of course they can. Charts are not just for finding a good stock to trade. Most traders use charts to determine good entry and exit points as well. Charts describe the details of the trading action visually, and with a little knowledge one can use them to spot trends, determine 'support' and 'resistance' levels, and much more to help predict a stock's price movement. Please visit the Chart School at StockCharts.com to begin learning.

Where do I cut my losses?

-Unfortunately, there comes a time for every trader when their money starts to disappear. No one can be 100% sure of a gain on every stock. Sometimes that "perfect stock" will surprise you by rearing its ugly head. If things do not look good, cut your loss and sell. Move on, period. The amount you let a stock drop is really up to you and your comfort level. Some people will let the price drop 10%, some 20% or more. You must determine how much you are willing to lose, and set a personal limit. By cutting you losses early, however, you reduce risk and are securing your money for the next trade.

What's Next?

Now that you know some basics of Penny Stock Investing, please browse the next two sections to see some very helpful resources. We have compiled a listing of the best tools, books, and publications to help with your trading endeavors. Good luck, make money, and have fun!

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